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Economics, Pendulum Style

To combat the recession of 2007, the Federal Reserve initiated an aggressive policy of Quantitative Easing–purchasing federal debt en masse to flood demand for Treasuries and lower interest rates to near zero to stimulate the economy.

As of June 2013 the Feds balance sheet has swelled to over $3.4 trillion in assets of treasury debt. What happens when the Treasury has to repay those trillions?

Who is the Treasury going to borrow that money from and at what interest rate?

Just like raising demand for Treasuries lowered interest rates, increasing the supply of Treasury debt to pay back the Federal Reserve will make interest rates go way up the other way.

Rising interest rates makes borrowing more expensive–e.g. buying a car with an auto loan is more expensive, buying a home with a mortgage is more expensive–and inflation can skyrocket.

But what is worse is that despite the recent slowing of the growth of the national debt, many economists calculate the total US debt at a whopping $70 trillion when you include the host of unfunded liabilities including social entitlements such as Social Security, Medicare, Medicaid, as well as government loan guarantees (mortgage, student loan, etc,), deposit insurance (i.e. FDIC(, and the money owed to the Federal Reserve.

What is really sad about this is that the entire wealth of American families in this country is guess what–also $70 trillion–which means that we are essentially a bankrupt nation:

Family assets of $70 trillion – Family liabilities of $70 trillion = a big fat 0 in the kitty!

To pay back the $70 trillion, it is not realistic that we will simply “grow our way out” of this fiscal mess with a GDP growth rate over the last 20 years of a mere 2.6%. Also, we will likely not confiscate people’s assets to pay off the debt, rather we will print money–lots of it–so that we end up paying back the trillions of past debt in much devalued future money.

Heads we win, tails you lose!

The problem is that devaluing the dollar will mean that American family savings will become worth less as well–with the risk, at the extreme, of wiping out mass amounts of savings altogether.

Despite sequestration reducing the rate of our debt growth, the aging baby boomers with the resulting liabilities for their care will soon escalate the debt problem once again.

David Walker, a former U.S. Comptroller has warned about our national debt problem as well as many prominent economists.

Like a pendulum swinging from one extreme to the other, the spendthrift ways of the past will by necessity lead to penny-pinching in the future, and inflation rates of near zero since 2007 will lead to hyperinflation after 2014.

It reminds me of the story of Joseph in the Bible, with the 7 lean years follow the 7 fat years (in Egypt that time)–this is not just providence, but common sense economics.

Good times will come again when there is a return to the mean and the pendulum hovers near center, but the swings until then can be wide and scary.

Of course, like taking your medicine, the earlier we start to course-correct our nation’s finances, the sooner we get healthy again. 😉